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Position: Short Italy (EWI); Euro (FXE)

We’ve been hitting on the fundamental trend of stagflation pressure in the UK for months now, however it’s now official given that Q4 UK GDP fell -0.5% quarter-over-quarter (vs +0.7% in Q3) as inflation (CPI) stands at +3.7% year-over-year.

While we applaud the austerity measures the UK government has issued to cut its public debt and deficit levels for its longer term outlook, over the medium term these measures will equate to slow (or negative) GDP. (Versus the previous year GDP rose +1.7% in Q4, a slowdown from +2.7% in Q3 Y/Y).

The UK Statistical Office said that without the impact of weather the Q4 number would have been “flattish”. However the reality remains that with a higher VAT (from 17.5% to 20%), job cuts (~500K over next 4 years), and ~£81 Billion in public spending cuts over the next 4 years, the citizenry is feeling the squeeze (or biting the bullet) so that the economy may see brighter seas 2-3 years out, a strategy we also firmly believe President Obama needs to implement in the US.

The major components that drove the UK’s GDP print Q/Q include:

Services                        -0.5%

Industrial Production      +0.9%

Manufacturing               +1.4%

Construction                  -3.3%

As stagflation rears its ugly head, we’re seeing headwinds for its main equity market, the FTSE 100. The FTSE recently broke our immediate term TRADE support level of 5978, with intermediate term TREND support down at 5790 (see chart). 

UK: Welcome to Stagflation Country! - FTSE100

We sold out of our position in Germany (via the etf EWG) in the Hedgeye Virtual Portfolio yesterday as the DAX flashed overbought on our TRADE duration; we remain bullish on the TREND duration. We remain short Italy (EWI) and the Euro (FXE); we would be shorting the EUR-USD at current levels, with a cover at $1.33.

Matthew Hedrick